## 1. Status of Extended Fund Facility (EFF) Program ## Source details **Canonical URL:** [1. Status of Extended Fund Facility (EFF) Program](https://www.imf.org/-/media/files/publications/cr/2019/1mngea2019001.pdf) ## Other formats - [Markdown version](/-/media/files/publications/cr/2019/1mngea2019001.pdf.md) - [Structured JSON version](/-/media/files/publications/cr/2019/1mngea2019001.pdf.json) --- ### Context and recent recovery - Mongolia recovered quickly from the 2016 downturn with support from a new “Economic Recovery Program” and $5.5 billion in official assistance, including a three-year $425 million Extended Fund Facility from the IMF. - By early 2019: - Fiscal balance improved by 17 percent of GDP (relative to 2016). - Public debt declined by 14 percentage points of GDP to reach 73 percent of GDP at end-2018. - Gross international reserves increased by $2½ billion to $3.8 billion at end-March. - Legacy vulnerabilities remain: - Public debt: 73 percent of GDP. - External debt: 220 percent of GDP. - Banking sector capital ratios remain below adequate levels. - International reserves, once short-term on- and off-balance sheet liabilities are netted out, are just above zero. - Structural concentration: 80 percent of exports on average are minerals; narrow export destination concentration and reliance on a few large FDI projects. ### Economic backdrop and key indicators - Growth and external drivers: - Real GDP growth rose from about 1 percent (y/y) in 2016 to 6.9 percent in 2018 and 8.6 percent in 2019Q1. - Annual mineral exports increased by about 50 percent over two years to reach $6 billion. - Annual FDI increased from about $300 million to $2.1 billion (largely due to resumption of Oyu Tolgoi second phase). - Inflation and monetary stance: - Inflation rose sharply in 2017 and has hovered around the Bank of Mongolia’s target of 8 percent. - Bank of Mongolia lowered policy rates by 500 bps to 10 percent (1300 bps in real terms given rising inflation) in 2017–18; raised policy rates by 100 bps in December 2018. - Fiscal performance: - Primary balance improved from a deficit of 11.2 percent of GDP in 2016 to a surplus of 5.9 percent of GDP in 2018. - Concessional financing reduced the interest bill by 1 percentage point of GDP in 2018. ### Financial sector and macroprudential measures - Credit and household leverage: - Credit growth surged to 24 percent y.o.y. as of 2018Q4. - Average debt-service-to-income ratio now over 50 percent for half of households. - Macroprudential measures implemented or planned: - 30-month loan maturity limit and a ceiling of 60 percent on debt-service-to-income ratios for all new non-mortgage consumer loans effective April 2019. - Increased risk weight on unhedged FX lending from 120 percent to 150 percent. - Credit growth slowed in Q1 2019 but increased again in Q2 2019 and requires monitoring. - Bank recapitalization and supervision: - Asset Quality Review (AQR) identified shortfalls in seven banks: - One bank (Capital Bank) closed with an estimated fiscal cost of 1 percent of GDP. - Six banks reported raising most of the capital required by the AQR (about 2 percent of GDP), but concerns exist about compliance with Mongolian regulations and international best practice. - Authorities agreed under the IMF-supported program to a forensic audit of these capital raising transactions as a prior action under the EFF; the audit was initiated in June 2019. - Bank of Mongolia’s progress on strengthening regulatory and supervisory framework has been limited; official capital numbers still reflect significant forbearance. ### Status of the EFF program (Box summary) - IMF Executive Board has completed 5 out of 11 scheduled reviews under the 3-year program approved in May 2017. - In November 2018 IMF staff reached “staff-level agreement” with authorities on the 6th review. - Performance: - Quantitative performance criteria: all end-September targets met. - Structural benchmarks: mixed implementation; several financial sector reforms delayed (notably follow-up to the AQR). - Conditionality and delays: - Authorities committed, as a prior action for the 6th review, to take supervisory action against any bank not raising required capital by end-2018; this prior action has not been completed, delaying the review. - Concerns about the nature of capital injections prompted IMF staff request for a third-party forensic audit; if audit finds insufficient source or nature of equity injections, banks’ capital will be deducted and banks asked to replace it. ### Outlook, near-term risks, and scenarios - Near-term outlook (staff projections): - Growth expected to remain robust but decelerate to around 5½ percent by end-2020. - Staff projects the primary surplus to fall to about 3 percent of GDP in 2019 (higher than the budget target of 1 percent of GDP) and to around 1 percent in 2020 under the authorities’ Medium Term Budget Framework spending levels. - Consumer price inflation projected to converge toward the Bank of Mongolia’s target of 8 percent. - Medium-term assumptions and trajectory: - Assumptions include no continued fall in key commodity prices, OT underground mine comes on line in the 2022-23 timeframe, and some loosening in fiscal and monetary policies after the IMF program expires. - Under these assumptions, growth projected around 5–6 percent over the medium term with continued declines in public and external debt. - However, foreign exchange reserves are projected to fall to 83-84 percent of the ARA metric by 2023. - Key macro assumptions (selected values by year): - Real GDP Growth (%): 2018 6.9; 2019 6.5; 2020 5.4; 2021 5.1; 2022 5.6; 2023 6.0; 2024 5.0 - FDI (USD Billion): 2018 2.1; 2019 1.9; 2020 1.8; 2021 1.8; 2022 1.4; 2023 1.4; 2024 0.7 - Nominal Exports Growth (%): 2018 12.4; 2019 10.1; 2020 2.6; 2021 8.9; 2022 7.5; 2023 9.9; 2024 7.0 - Credit Growth (%): 2018 23.4; 2019 18.0; 2020 17.0; 2021 15.0; 2022 15.0; 2023 16.0; 2024 17.0 - Primary Balance (% of GDP): 2018 5.9; 2019 2.8; 2020 1.1; 2021 -0.5; 2022 -0.5; 2023 -0.5; 2024 -0.5 - Gross Reserves (USD Billions): 2018 3.4; 2019 3.6; 2020 4.0; 2021 4.0; 2022 3.6; 2023 3.3; 2024 2.8 - Near-term downside risks (selected): - Shocks to mineral demand (e.g., global slowdown, Chinese border bottlenecks, reversal in China’s coking coal imports). - External financing risk: - $500 million BOM FX swap with a large domestic commercial bank matures in 1H-2020. - PBoC swap with the BOM ($1.8 billion drawn) expires in August 2020. - Starting in 2021, series of large bullet amortizations on eurobonds. - Potential loss of roughly $500 million in scheduled concessional financing if IMF program remains delayed. - Financial stability risks from incomplete bank recapitalization and concentrated household lending: - Household loans make up 50 percent of total credit outstanding and are concentrated in over-leveraged borrowers. - Household loans now account for 16 percent of total NPLs, up from 12.5 percent in November 2018. - Political uncertainties and governance concerns around the 2020 parliamentary election cycle that could induce procyclical policies or disrupt OT negotiations. - Adverse scenario calibrated on past shocks: - If commodity prices in 2020–21 fall by a magnitude similar to past shocks and trigger a policy response akin to past episodes, staff assess buffers as insufficient: - Public debt reaches 95 percent of GDP. - Reserves decline below $1 billion (or just above 0.5 month of imports). ### Policy priorities and recommendations - Four policy priorities to achieve high, inclusive, and green growth: - Maintain tight macro policies and a more flexible exchange rate to reduce current account deficits and increase foreign exchange reserves. - Increase bank capital, enhance risk-based supervision, and eliminate regulatory forbearance to ensure the banking sector can support sustainable growth. - Strengthen the investment climate for the tradable sector with infrastructure upgrades and governance improvements, including reducing vulnerabilities to corruption to address external imbalances. - Improve the tax/regulatory framework to address overgrazing and desertification to make the agriculture sector more resilient to climate change. --- ### External and environmental vulnerabilities — key findings - External Sustainability: - Mongolia averaged current account deficits of 20 percent of GDP over the last decade. - External liabilities built up to 309 percent of GDP, of which 70 percent is debt. - Net International Investment Position (NIIP) deteriorated to -260 percent of GDP. - Investment to GDP ratios were 40 percent or more, driving much of the external imbalance. - More than half of liabilities financed tradable sectors like mining; significant financing was also absorbed by “other” private companies with large data gaps on debt-servicing ability. - Staff assessment and implications: - EBA-Lite External Sustainability (ES) approach implies a current account gap of -4 percent of GDP and a REER overvaluation of 9 percent. - Given very negative NIIP, objective should be improvement rather than stabilization at current NIIP levels, implying a larger adjustment than the model’s stabilization target. - Policy mix recommended: more flexible exchange rate, tighter macro policies, and a more competitive tradable sector. - Environmental Sustainability: - Grasslands span 80 percent of the country. - 65 percent of all grasslands are considered “degraded” and over 90 percent have experienced some desertification. - Livestock population almost tripled since 1990 to about 70 million animals. - Mongolia has warmed three times faster than the rest of the world and 80 percent of the country is defined as highly vulnerable to climate change. - Two main drivers of land degradation: overgrazing (virtually no land use regulations) and climate change. ### Macro-critical environmental implications - Harsh winters (‘dzuds’) that have increased in frequency can cause extreme losses of wealth of up to 15 percent of GDP. - Decline in value-added of the livestock sector due to older average age of livestock and absence of strategic breeding. - Massive emigration to the capital outpacing government capacity to provide basic services, contributing to expansion of the ger district and increased pollution from coal burning. - Goat-heavy livestock composition accelerates desertification and links Mongolia to intense dust storms (‘Yellow Dust’) across East Asia. ### Policy priorities for stable, inclusive, and green growth (selected) - Five broad focus areas: - (A) making fiscal policy sustainable and more equitable; - (B) building buffers against external shocks; - (C) restoring health to the banking system; - (D) making the agriculture sector more productive and resilient to climate shocks; - (E) combatting corruption. - Fiscal Policy recommendations: - Main 2019 priority: refrain from a supplementary budget and save any revenue over-performance to pay down debt faster. - For 2020–24, target a primary surplus of at least 1 percent of GDP to bring the public debt-GDP ratio down to a safe level in the medium term (based on current assumptions). - Staff assessment: 2020 expenditure ceilings in the Medium Term Budget Framework would result in a primary surplus of 1.1 percent of GDP under staff’s current macroeconomic projections. - Authorities should promptly seek opportunities to refinance substantial Eurobond amortizations in the 2021–24 period. - Monetary Policy recommendations: - BOM should stand ready to tighten monetary policy further. - Goal: anchor inflation below the current target of 8 percent at around 5–6 percent. - Additional recommended actions: further tightening if credit growth does not decelerate below nominal GDP; tighter debt-service to income ratios; clear communication; significantly stronger supervision of non-bank institutions. - FX Intervention and Exchange Rate policy: - BOM should continue to bolster foreign exchange reserves through direct purchases instead of borrowing. - Gross International Reserves (GIR) reached $3.7 billion at end-May 2019, up from $1.3 billion at end-2016. - Mongolia has short-term, on and off-balance sheet liabilities of $3.1 billion; netting these out would reduce gross reserves to $600 million. - Goal: increase gross reserves, net of short-term FX liabilities, to at least 100 percent of the IMF’s ARA Metric, which would imply a $3–4 billion increase from current levels. ### Financial sector — near-term priorities to resume IMF-supported program - Immediate priorities: - BOM must ensure completion of an independent forensic audit providing sufficient information to verify appropriateness of recent capital injections. - If the forensic audit finds capital raised inconsistent with local regulations and best practice, supervisors should deduct capital accordingly. - BOM should intervene in any bank that does not raise the capital requested in May 2018. - Proceed with planned regulations to strengthen standards on loan origination, collateral valuation and asset classification. - Macroprudential and consumer protection (selected): - Ensure the debt-service to income limit has no gaps by extending it to all household loans (bank and non-bank; mortgage and consumer; salary or pension collateral). - Lower the debt service limit going forward since 60 percent remains high by international comparison. - Strengthen consumer protection: better APR disclosure, prohibition of usury, designate institution for consumer complaints. --- ### Selected aggregate statistics and projections (preserved exactly) - Nominal GDP (in billions of togrogs): 2016 23943; 2017 27876; 2018 32094; 2019 37129; 2020 42092; 2021 47531; 2022 53652; 2023 60002; 2024 66798. - Real GDP growth (percent change): 2016 1.2; 2017 5.3; 2018 6.9; 2019 6.5; 2020 5.4; 2021 5.1; 2022 5.6; 2023 6.0; 2024 5.0. - Consumer Prices (EoP; percent change): 2016 0.8; 2017 7.2; 2018 9.7; 2019 8.4; 2020 8.1; 2021 7.0; 2022 6.9; 2023 7.1; 2024 7.2. - General government debt (percent of GDP): 2016 87.6; 2017 84.6; 2018 73.3; 2019 73.0; 2020 71.0; 2021 66.2; 2022 61.7; 2023 58.9; 2024 57.2. - Domestic: 2016 20.2; 2017 13.6; 2018 5.3; 2019 4.2; 2020 3.0; 2021 2.2; 2022 1.5; 2023 2.8; 2024 4.9. - External: 2016 67.5; 2017 71.0; 2018 68.0; 2019 68.9; 2020 68.0; 2021 64.0; 2022 60.1; 2023 56.1; 2024 52.3. - Broad money growth (percent change): 2016 21.0; 2017 30.4; 2018 22.8; 2019 25.4; 2020 13.4; 2021 12.9; 2022 12.9; 2023 11.8; 2024 11.3. - Credit growth (percent change): 2016 6.7; 2017 11.1; 2018 23.4; 2019 18.0; 2020 17.0; 2021 15.0; 2022 15.0; 2023 16.0; 2024 17.0. - Current account balance (in percent of GDP): 2016 -6.3; 2017 -10.1; 2018 -17.0; 2019 -14.4; 2020 -12.4; 2021 -11.3; 2022 -9.5; 2023 -8.8; 2024 -8.8. - Gross official reserves (in USD millions): 2016 1297; 2017 3012; 2018 3461; 2019 3655; 2020 4033; 2021 4018; 2022 3638; 2023 3325; 2024 2802. - Mineral export (in millions of U.S. dollars): 2016 3999; 2017 5162; 2018 6034; 2019 6495; 2020 6679; 2021 7311; 2022 7894; 2023 8717; 2024 9356. - Gross financing requirements (in millions of U.S. dollars): 2016 2,067; 2017 3,628; 2018 3,535; 2019 4,239; 2020 4,023; 2021 3,599; 2022 4,257; 2023 3,847; 2024 2,960. --- ### Risk assessment and debt sustainability (selected annex findings) - Annex I (RAM) key domestic risks: - Heightening political uncertainty ahead of 2020 parliamentary elections — Relative Likelihood: Medium; Expected Impact If Realized: High. - Concerns about the health of systemic banks given incomplete recapitalization — Relative Likelihood: Medium; Expected Impact If Realized: High. - Annex IV (Public DSA) baseline: - Public debt: "around 73 percent of GDP at end-2018," expected to fall to "around 57 percent by 2024" under the baseline. - Drivers of improvement: projected low interest rates and high economic growth; share of concessional debt rising from "40 percent of public debt" currently to "about 60 by the end of 2020." - Average effective nominal interest rate: currently "4.4 percent" and projected to fall to "about 3 percent by 2024." - Stress-test examples (selected): - Growth shock (one standard deviation decline in 2020–21): debt-to-GDP forecast to reach just below 85 percent in 2021; gross financing needs in 2021 to 18 percent of GDP (baseline about 11 percent). - Exchange rate shock (real depreciation of 25 percent in 2020): debt to about 85 percent of GDP. - Combined financial sector contingent liability (one-time increase in expenditure equivalent to 15 percent of banking sector assets) combined with growth shock: debt path about a 15 ppt of GDP increase (peaking at 86 percent). ### External DSA (selected) - External debt of Mongolia is 220 percent of GDP—extremely high. - External debt composition (selected): - $9.2 billion of FDI intercompany loans (one-third of total). - $8 billion from other sectors (mainly corporate borrowing) = 28 percent of total. - $7.2 billion government external debt (25 percent of total). - $2.3 billion owed by banks. - $2 billion by the Central Bank (of which $1.7 billion is PBOC swap liability). - Policy implications: reduce reliance on short-term and non-core external funding; manage currency-mismatch risks for non-FDI debt. --- ### Fiscal and program status (selected contemporaneous developments) - Recent macro developments (as of mid-2019): - Real GDP growth: 8.6 percent in 2019Q1; 6.5 percent in 2019Q2. - Annual consumer price index inflation: 7.7 percent y-o-y in July. - Year to date primary balance: 4.7 percent of GDP in July. - Credit growth: 17.1 percent in July, down from 26.5 percent at end-2018. - Foreign exchange reserves: fell in July ($167 million in net terms) before stabilizing in August. - Program performance: - 6th review of the EFF program delayed due to lack of progress on completion of two financial sector actions. - Quantitative targets: met continuously and in some cases with big margins. - Forensic audit completed between June to August 2019 revealed irregularities in transactions aimed at recapitalizing banks following the AQR; authorities are analysing findings and considering next steps. - Authorities committed to taking all necessary actions to implement remaining post-AQR items in the banking sector and complete the 6th review. --- *Source: IMF staff report — “Status of Extended Fund Facility (EFF) Program,” Mongolia (excerpt).* ### 1. Status of Extended Fund Facility (EFF) Program _________________________________________________7 ### 1mngea2019001 - 1. Status of Extended Fund Facility (EFF) Program _________________________________________________7 ### Context and recent recovery - Mongolia recovered quickly from the 2016 downturn with support from a new “Economic Recovery Program” and $5.5 billion in official assistance, including a three-year $425 million Extended Fund Facility from the IMF. - By early 2019: - Fiscal balance improved by 17 percent of GDP (relative to 2016). - Public debt declined by 14 percentage points of GDP to reach 73 percent of GDP at end-2018. - Gross international reserves increased by $2½ billion to $3.8 billion at end-March. - Legacy vulnerabilities remain: - Public debt: 73 percent of GDP. - External debt: 220 percent of GDP. - Banking sector capital ratios remain below adequate levels. - International reserves, once short-term on- and off-balance sheet liabilities are netted out, are just above zero. - Structural concentration: 80 percent of exports on average are minerals; narrow export destination concentration and reliance on a few large FDI projects. ### Economic backdrop and key indicators - Growth and external drivers: - Real GDP growth rose from about 1 percent (y/y) in 2016 to 6.9 percent in 2018 and 8.6 percent in 2019Q1. - Annual mineral exports increased by about 50 percent over two years to reach $6 billion. - Annual FDI increased from about $300 million to $2.1 billion (largely due to resumption of Oyu Tolgoi second phase). - Inflation and monetary stance: - Inflation rose sharply in 2017 and has hovered around the Bank of Mongolia’s target of 8 percent. - Policy actions: Bank of Mongolia lowered policy rates by 500 bps to 10 percent (1300 bps in real terms given rising inflation) in 2017–18; raised policy rates by 100 bps in December 2018. - Fiscal performance: - Primary balance improved from a deficit of 11.2 percent of GDP in 2016 to a surplus of 5.9 percent of GDP in 2018. - Concessional financing reduced the interest bill by 1 percentage point of GDP in 2018. ### Financial sector and macroprudential measures - Credit and household leverage: - Credit growth surged to 24 percent y.o.y. as of 2018Q4. - Average debt-service-to-income ratio now over 50 percent for half of households. - Macroprudential measures: introduction of a 30-month loan maturity limit and a ceiling of 60 percent on debt-service-to-income ratios for all new non-mortgage consumer loans effective April 2019; increased risk weight on unhedged FX lending from 120 percent to 150 percent. - Credit growth slowed in Q1 2019 but increased again in Q2 2019 and requires monitoring. - Bank recapitalization and supervision: - Asset Quality Review (AQR) identified shortfalls in seven banks: - One bank (Capital Bank) closed with an estimated fiscal cost of 1 percent of GDP. - Six banks reported raising most of the capital required by the AQR (about 2 percent of GDP), but concerns exist about compliance with Mongolian regulations and international best practice. - Authorities agreed under the IMF-supported program to a forensic audit of these capital raising transactions as a prior action under the EFF; the audit was initiated in June 2019. - Bank of Mongolia’s progress on strengthening regulatory and supervisory framework has been limited; official capital numbers still reflect significant forbearance. ### Status of the EFF program (Box summary) - IMF Executive Board has completed 5 out of 11 scheduled reviews under the 3-year program approved in May 2017. - In November 2018 IMF staff reached “staff-level agreement” with authorities on the 6th review. - Performance: - Quantitative performance criteria: all end-September targets met. - Structural benchmarks: mixed implementation; several financial sector reforms delayed (notably follow-up to the AQR). - Conditionality and delays: - Authorities committed, as a prior action for the 6th review, to take supervisory action against any bank not raising required capital by end-2018; this prior action has not been completed, delaying the review. - Concerns about the nature of capital injections prompted IMF staff request for a third-party forensic audit; if audit finds insufficient source or nature of equity injections, banks’ capital will be deducted and banks asked to replace it. ### Outlook, near-term risks, and scenarios - Near-term outlook (staff projections): - Growth expected to remain robust but decelerate to around 5½ percent by end-2020. - Staff projects the primary surplus to fall to about 3 percent of GDP in 2019 (higher than the budget target of 1 percent of GDP) and to around 1 percent in 2020 under the authorities’ Medium Term Budget Framework spending levels. - Consumer price inflation projected to converge toward the Bank of Mongolia’s target of 8 percent. - Medium-term assumptions and trajectory: - Assumptions include no continued fall in key commodity prices, OT underground mine comes on line in the 2022-23 timeframe, and some loosening in fiscal and monetary policies after the IMF program expires. - Under these assumptions, growth projected around 5–6 percent over the medium term with continued declines in public and external debt. - However, foreign exchange reserves are projected to fall to 83-84 percent of the ARA metric by 2023. - Key macro assumptions table (selected values by year) - Real GDP Growth (%): 2018 6.9; 2019 6.5; 2020 5.4; 2021 5.1; 2022 5.6; 2023 6.0; 2024 5.0 - FDI (USD Billion): 2018 2.1; 2019 1.9; 2020 1.8; 2021 1.8; 2022 1.4; 2023 1.4; 2024 0.7 - Nominal Exports Growth (%): 2018 12.4; 2019 10.1; 2020 2.6; 2021 8.9; 2022 7.5; 2023 9.9; 2024 7.0 - Credit Growth (%): 2018 23.4; 2019 18.0; 2020 17.0; 2021 15.0; 2022 15.0; 2023 16.0; 2024 17.0 - Primary Balance (% of GDP): 2018 5.9; 2019 2.8; 2020 1.1; 2021 -0.5; 2022 -0.5; 2023 -0.5; 2024 -0.5 - Gross Reserves (USD Billions): 2018 3.4; 2019 3.6; 2020 4.0; 2021 4.0; 2022 3.6; 2023 3.3; 2024 2.8 - Near-term downside risks (selected): - Shocks to mineral demand (e.g., global slowdown, Chinese border bottlenecks, reversal in China’s coking coal imports). - External financing risk: - $500 million BOM FX swap with a large domestic commercial bank matures in 1H-2020. - PBoC swap with the BOM ($1.8 billion drawn) expires in August 2020. - Starting in 2021, series of large bullet amortizations on eurobonds. - Potential loss of roughly $500 million in scheduled concessional financing if IMF program remains delayed. - Financial stability risks from incomplete bank recapitalization and concentrated household lending: - Household loans make up 50 percent of total credit outstanding and are concentrated in over-leveraged borrowers. - Household loans now account for 16 percent of total NPLs, up from 12.5 percent in November 2018. - Political uncertainties and governance concerns around the 2020 parliamentary election cycle that could induce procyclical policies or disrupt OT negotiations. - Adverse scenario calibrated on past shocks: - If commodity prices in 2020–21 fall by a magnitude similar to past shocks and trigger a policy response akin to past episodes, staff assess buffers as insufficient: - Public debt reaches 95 percent of GDP. - Reserves decline below $1 billion (or just above 0.5 month of imports). ### Policy priorities and recommendations - Four policy priorities to achieve high, inclusive, and green growth: - Maintain tight macro policies and a more flexible exchange rate to reduce current account deficits and increase foreign exchange reserves. - Increase bank capital, enhance risk-based supervision, and eliminate regulatory forbearance to ensure the banking sector can support sustainable growth. - Strengthen the investment climate for the tradable sector with infrastructure upgrades and governance improvements, including reducing vulnerabilities to corruption to address external imbalances. - Improve the tax/regulatory framework to address overgrazing and desertification to make the agriculture sector more resilient to climate change. *Source: IMF staff report — “Status of Extended Fund Facility (EFF) Program,” Mongolia (excerpt).* ### 14. Over the last ten years, external and environmental vulnerabilities have risen in ### 14. Over the last ten years, external and environmental vulnerabilities have risen in ### External Sustainability — key findings - Mongolia averaged current account deficits of 20 percent of GDP over the last decade. - External liabilities built up to 309 percent of GDP, of which 70 percent is debt. - Net International Investment Position (NIIP) deteriorated to -260 percent of GDP. - Investment to GDP ratios were 40 percent or more, driving much of the external imbalance. - More than half of liabilities financed tradable sectors like mining; significant financing was also absorbed by “other” private companies with large data gaps on debt-servicing ability. - Some large mining projects remain incomplete and face implementation risk, raising questions about their medium-term foreign exchange generation. ### External Sustainability — staff assessment and implications - The EBA-Lite External Sustainability (ES) approach implies: - A current account gap of -4 percent of GDP. - A real effective exchange rate (REER) overvaluation of 9 percent. - Given the very negative NIIP, the objective should be improvement rather than stabilization at current NIIP levels, implying a larger adjustment than the model’s stabilization target. - Policy mix recommended: - A more flexible exchange rate via less sales of foreign exchange. - Tighter macro policies. - A more competitive tradable sector. - Adjustment should not rely entirely on a weaker currency because of the high proportion of foreign currency denominated public debt. ### Authorities’ views (external) - Authorities agreed net external liabilities were too large and prioritized building foreign exchange reserves. - They disagreed that the exchange rate was excessively overvalued and were concerned that depreciation could become disorderly and might not improve the trade balance given commodity-dominated exports and mining-related capital goods, industrial materials and fuel–dominated imports. - The Bank of Mongolia (BOM) emphasized prudent fiscal policy and structural reforms (e.g. better infrastructure, stable investment climate) to improve export-sector competitiveness. ### Environmental Sustainability — key findings - Mongolia’s grasslands span 80 percent of the country. - 65 percent of all grasslands are considered “degraded” and over 90 percent have experienced some desertification. - Livestock population almost tripled since 1990 to about 70 million animals, driven by expansion of goatherds in response to cashmere demand and lack of limits on livestock growth. - Mongolia has warmed three times faster than the rest of the world and 80 percent of the country is defined as highly vulnerable to climate change. - Two main drivers of land degradation: - Overgrazing due to virtually no land use regulations and large increases in livestock. - Climate change with higher average temperatures and increased weather extremes. ### Environmental sustainability — macro-critical implications - Harsh winters (‘dzuds’) that have increased in frequency can cause extreme losses of wealth of up to 15 percent of GDP. - Decline in value-added of the livestock sector due to older average age of livestock and absence of strategic breeding, reducing cashmere and meat quality. - Massive emigration to the capital outpacing government capacity to provide basic services, contributing to expansion of the ger district and increased pollution from coal burning. - Goat-heavy livestock composition accelerates desertification by destroying soil protective crusts, linking Mongolia to intense dust storms (‘Yellow Dust’) across East Asia with rising health and economic costs. ### Authorities’ views (environmental) - Authorities acknowledged the drivers of land degradation and overgrazing and recognized the macro-critical consequences requiring policy response. ### Policy priorities for stable, inclusive, and green growth - Five broad areas of focus: - (A) making fiscal policy sustainable and more equitable; - (B) building buffers against external shocks; - (C) restoring health to the banking system; - (D) making the agriculture sector more productive and resilient to climate shocks; - (E) combatting corruption. ### A. Macro-Policy Settings — Fiscal Policy recommendations - Main 2019 priority: refrain from a supplementary budget and save any revenue over-performance to pay down debt faster. - Given increased budgeted investment spending in 2019 and absorptive capacity constraints, some under-execution is expected and appropriate. - For 2020–24, target a primary surplus of at least 1 percent of GDP to bring the public debt-GDP ratio down to a safe level in the medium term (based on current assumptions). - Staff view: any overperformance should be saved to rebuild buffers and guard against downside risks. - Staff assessment: 2020 expenditure ceilings in the Medium Term Budget Framework would result in a primary surplus of 1.1 percent of GDP under staff’s current macroeconomic projections. - Authorities should promptly seek opportunities to refinance substantial Eurobond amortizations in the 2021–24 period. ### A. Macro-Policy Settings — Monetary Policy recommendations - BOM should stand ready to tighten monetary policy further. - Goal: anchor inflation below the current target of 8 percent at around 5–6 percent. - Context: - The current 8 percent target was increased from 6 percent to 8 percent in 2014. - Estimated output gap remains positive. - Inflation is high at around 8 percent. - Balance of payments are not sufficiently strong for fast reserve accumulation. - Recent measures: - December policy rate hike and January tightening in macro-prudential ratios are reducing credit growth sharply. - Import growth decelerated from 30 percent (y/y) in 2018 to about zero at end-June. - Additional recommended actions: - Further tightening if credit growth does not continue to decelerate below nominal GDP. - Tighter debt-service to income ratios. - Clear communication to better anchor expectations. - Significantly stronger supervision of non-bank institutions. ### A. Macro-Policy Settings — FX Intervention and Exchange Rate policy - BOM should continue to bolster foreign exchange reserves through direct purchases instead of borrowing. - Gross International Reserves (GIR) reached $3.7 billion at end-May 2019, up from $1.3 billion at end-2016. - Mongolia has short-term, on and off-balance sheet liabilities of $3.1 billion; netting these out would reduce gross reserves to $600 million. - BOM has $1.2 billion in non-deliverable off-balance sheet swaps denominated in FX but settled in local currency. - Goal: move away from reliance on borrowed funds and increase gross reserves, net of any short-term foreign exchange liabilities, to at least 100 percent of the IMF’s ARA Metric, which would imply a $3–4 billion increase from current levels. - Achieving this increase requires: - Tight fiscal and monetary policy. - Limiting sales of foreign exchange to disorderly market conditions and greater acceptance of depreciation. - A stronger investment climate to attract long-term capital flows. ### Authorities’ views (on macro-policy) - Authorities agreed with saving revenue over-performance in 2019 for debt reduction and considered the MTBF as appropriately balancing spending needs with debt reduction. - For monetary policy, authorities viewed the current stance as appropriate and noted national inflation in line with the 8 percent target; they anticipated possible future loosening given the pace of deceleration in credit growth. - Authorities agreed on the need to accumulate foreign exchange reserves but emphasized shallow FX markets and risk of disorderly moves; BOM stressed stronger investment climate and diversified FX sources are required. ### B. Structural Reforms — Fiscal structural recommendations - Consider adjustments to the fiscal framework to help medium-term sustainability: - Reconsider the structural balance rule due to difficulties in communication and monitoring and potential counterproductive effects during downturns. - Tighten the debt anchor: current anchor set at 60 percent of GDP in present valued terms could be tightened and communicated in nominal terms; staff’s FAD template suggests a debt anchor of 50 percent of GDP in nominal terms in the medium term. - Constrain expenditure growth sufficiently below the long-run historical average growth rate of non-mining nominal GDP to ensure public debt reaches the debt anchor by 2024; thereafter, public expenditures should grow in line with the long-run average of historical non-mining nominal GDP. - Adjust composition of government spending to address social problems: - Mongolia’s poverty rate was 28 percent in 2018. - Priorities: bring public health expenditures in line with peers; complement the Child Money Program with better-targeted programs (e.g. food stamps); expand social insurance to protect vulnerable groups. - Funding options: streamline inefficient public expenditure, gradually re-introduce fuel excise taxes or introduce taxes on luxury cars, and move towards a more progressive personal income tax. - Strengthen fiscal governance around public investment spending: - Apply recently adopted investment guidelines to all new capital projects including PPPs and SOE investments. - Enhance fiscal risks assessments, including discussion of fiscal risks from large infrastructure projects in the yearly budget. - Ensure non-commercial social programs are on the general government budget rather than on SOE balance sheets. - Refrain from using BOM’s balance sheet for financing quasi-fiscal activity (consistent with the new central bank law). ### Authorities’ views (on fiscal structural policies) - Authorities opposed revising the fiscal rules framework at this time, citing rising political support and the structural balance rule’s role in accumulating assets in the Fiscal Stabilization Fund (FSF) and Future Heritage Fund (FHF). - On social policy, authorities preferred to assess recent increases before increasing social spending and saw scope for improving efficiency, particularly in health. - Authorities acknowledged contingent fiscal risks from planned mega-projects and emphasized commitment to transparency in financing and execution. ### Financial Sector — key issues and near-term priorities - Key problems: - Loan origination lacks adequate due diligence; recent surge in household lending often to borrowers with debt service to income above 90 percent. - Banks’ asset classification standards fall short of best practice; 2018 AQR required significant changes to NPLs and provisions. - Supervisor allows forbearance that delays the need to strengthen bank balance sheets. - Concerns about sources of equity when banks raise capital. - Limited progress on insolvency law reform, debt enforcement, and debt restructuring mechanisms. - Near-term priorities to resume IMF-supported program: - BOM must ensure completion of an independent forensic audit providing sufficient information to verify appropriateness of recent capital injections. - If the forensic audit finds capital raised inconsistent with local regulations and best practice, supervisors should deduct capital accordingly. - BOM should intervene in any bank that does not raise the capital requested in May 2018. - Proceed with planned regulations to strengthen standards on loan origination, collateral valuation and asset classification. *Source: 1mngea2019001 - Chapter excerpt on external and environmental vulnerabilities and policy recommendations.* ### 30. Further tightening in macroprudential ratios and a broadening of their coverage is ### 1mngea2019001 - 30. Further tightening in macroprudential ratios and a broadening of their coverage is ### Macroprudential ratios, household debt, and consumer protection - Findings: - The Bank of Mongolia (BOM) introduced a debt service to income limit of 60 percent. - Households are responding by increasingly relying on non-bank financial institutions which charge considerably higher interest rates (average interest rates of 41 percent vs 17 percent at banks). - Immediate imperatives / policy recommendations: - Ensure the debt-service to income limit has no gaps in coverage by extending it to all household loans, regardless of: - source (bank or non-bank), - use (mortgage or consumer), - collateral (salary or pension). - Lower the debt service limit going forward, since 60 percent remains high by international comparison. - Strengthen consumer protection measures, including: - better information provisions (e.g. annual percentage rate (APR) and the impact of depreciation of foreign exchange denominated loans), - prohibition of usury practices, - designating an adequate institution responsible for the resolution of consumer complaints. - Authorities’ views: - Authorities believe banks’ capital ratios are now in compliance with prudential requirements but are committed to ensuring banks raise the capital requested by BOM in May 2018. - BOM shared staff concerns about household debt and saw scope for further tightening in macro-prudential ratios, but officials were concerned about the pace of the slowdown in household lending and wanted more time before further changes. - The Financial Regulatory Commission did not see financial stability concerns from the recent rise in non-bank lending and saw no need at this time to extend debt service to income limits to these institutions. ### Implementation of safeguards and internal audit recommendations - Progress and outstanding items: - Recommendations on the external audit policy and internal audit charter have been completed following review by the Supervisory Board and approval by management. - Remaining outstanding recommendations include: - transfer of the mortgage program from the BOM to the MOF, - peer reviews of internal audit and currency operations. - Discussions between the BOM and the MOF on modalities and the date of transfer of the mortgage program are ongoing; agreement not yet reached. - To strengthen internal audit, BOM is formalizing a technical assistance agreement with a consultant under a World Bank project; work is expected to commence in September 2019. - A peer review of currency operations by another central bank is expected to be completed by end-2019. ### Environmental sustainability and upgrading the agriculture sector - Macro perspective priorities: - Use a pasture tax to feasibly cut livestock population in half in line with national targets. - Boost value-added of the sector by upgrading the meat and cashmere industry. - Policy measures suggested: - A progressive pasture tax with an exception for small/medium herders to reduce herd size, land degradation, and wealth inequality. - Upgrading the meat and cashmere industry through: - reduced trade barriers, - joint investment in logistics, - cooperation and assistance in addressing food safety concerns (e.g. achieving ‘Foot and Mouth Disease Free’ status), - improving cashmere quality via better animal management practices, grading and standardization, and expanding market access. - Mongolia would benefit from technical assistance, foreign investment, and trade agreements; securing trade deals that include Mongolia’s commitments to curb desertification is highlighted as an opportunity. - Authorities’ views: - Authorities suggested enabling local governments to retain and spend pasture tax revenues to improve pasture quality and address water shortages to increase political acceptability. - Authorities emphasized current focus on improving phytosanitary standards and further developing logistics for the meat sector. ### Governance - Findings and recommendations: - Improving governance is crucial for sustainable and inclusive growth; Mongolia faces challenges from relatively weak institutions, large lumpy capital projects, and windfall mining revenues. - Progress: upgraded anti-corruption framework and active civil society advocacy. - Recommended follow-through on the 2019 OECD-Anti-Corruption Network Monitoring Report, including: - improving the legal framework, - strengthening integrity and independence of judicial and anti-corruption institutions, - strengthening capabilities of the judiciary, especially on commercial issues and debt resolution. - Focus on politically exposed persons via enhancing income and asset declaration framework to improve AML/CFT compliance. - Other reform priorities: - more disclosure/transparency around PPP/concession obligations and allocation of mining licenses, - a more diversified and open shareholding structure of banks, including through IPOs and foreign bank entry, - strengthening implementation of procurement controls, including at SOEs. - Authorities’ views: - Authorities agreed improvements in governance were necessary and highlighted actions taken: improvements in management of Special Funds, constraints on the DBM and BOM to limit quasi-fiscal spending, better controls over PPPs, and a stronger AML/CFT framework. - Authorities noted recent powers to replace prosecutors and judges would strengthen enforcement against corruption. ### Staff appraisal — macroeconomic performance, vulnerabilities, and policy recommendations - Recent performance and vulnerabilities: - Progress since 2017: growth accelerated to 6.9 percent in 2018 and 8.6 percent in Q1 2019. - Fiscal balance improved by 18 percentage points, enabling public debt to fall by 14 percentage points. - Net foreign exchange reserves have increased by about $3 billion since 2016. - Despite progress, buffers remain inadequate; a sharp fall in external demand could halt growth, reverse public debt dynamics and trigger financial instability. - Fiscal and monetary policy recommendations: - Tight macro policies are needed for further debt reduction and reserve accumulation. - Public and external debt remain elevated at about 73 and 220 percent of GDP, respectively, at end-2018. - Authorities should target a primary surplus of at least 1 percent of GDP beyond 2019 to bring public debt to around 50 percent of GDP in the medium term. - Use any revenue overperformance to further rebuild buffers and guard against downside risks to the debt profile. - With inflation high and international reserves still too low, further tightening in policy rates may be necessary to ensure price stability and rein in credit growth. - BOM should continue to build FX reserves through spot purchases. - Since the external position is assessed to be substantially weaker than implied by fundamentals and desirable policy settings, BOM should allow a more flexible exchange rate and refrain from FX sales other than preventing disorderly market conditions. - Fiscal governance: - Current fiscal rules have not been consistently effective in preventing excess fiscal deficits. - Streamlining the framework with a more independent Fiscal Council and a formal correction mechanism would be useful. - For planned mega projects, ensure good governance and refrain from quasi-fiscal spending. - There is scope to strengthen social spending, especially in the public health sector. - Financial sector recommendations: - Build capital buffers and implement targeted regulatory tightening. - BOM needs to ensure banks have raised sufficient capital consistent with Mongolian law and international best practice; be prepared to take necessary regulatory actions for non-compliant banks. - Proceed with tighter regulations on loan origination, collateral valuation, and asset classification. - Debt service to income limits should be tighter and have broader coverage to address the rapid rise in household debt. *Source: 1mngea2019001 - 30. Further tightening in macroprudential ratios and a broadening of their coverage is* ### 41. To achieve lasting growth that benefits all Mongolians, the authorities should ### 41. To achieve lasting growth that benefits all Mongolians, the authorities should ### Governance and structural policy recommendations - Strengthen governance and diversify the economy in a sustainable manner. - Address weak governance and rule of law and vulnerabilities to corruption as limiting factors for development. - Improve the legal framework and strengthen the capabilities of the judiciary in line with OECD-ACN recommendations. - For economic diversification, prioritize: - Upgrading the livestock industries. - Developing tourism to leverage Mongolia’s vast grasslands. - Policy instruments suggested to address overgrazing and livestock management: - A progressive pasture tax. - Better quality control on meat product. ### Macroeconomic outlook and consultation note - It is expected that the next Article IV consultation with Mongolia will be held in accordance with the Executive Board decision on the consultation cycle for members with Fund arrangements. ### Real sector developments (selected findings) - Growth continued to accelerate in 2018, driven on the expenditure side by robust investment and on the supply side by services. - Labor market: - The unemployment rate has returned to the pre-crisis lows but labor force participation remains low. - Real wage growth has remained flat. - Inflation: - Inflation remains somewhat high, broadly in line with the authorities target of 8 percent. - Housing price inflation has started to moderate. ### Fiscal sector developments (selected findings) - Fiscal performance improved substantially in 2018, supported by both a reduction in expenditures and continued strong revenue performance. - Strong revenues reflect robust mining activities and solid domestic demand. - Public debt ratio continued to decline rapidly, particularly with respect to domestic debt. - Public deposits have continued to rise. ### Financial sector and monetary developments (selected findings) - Private sector credit growth accelerated sharply to above 20 percent in 2018, driven mostly by strong lending to households. - The share of foreign currency loans has declined sharply in recent years, while the share of FX deposits has been broadly stable. - Nominal lending rates have fallen as a lagged response to the rate cuts in 2017. - Aggregate loan-to-deposit ratio has been stable below 1 since early 2018. - As the government has retired Tbills, banks have shifted towards holding central bank bills as liquid assets. - Banking system remains highly concentrated in a few large banks. - BOM developments: - Net foreign assets of the BOM continued to strengthen due to foreign exchange accumulation. - BOM sterilized the impact on domestic liquidity through issuance of central bank bills. - BOM has continued to unwind large scale direct lending to banks of the past but continues to have substantial mortgage exposure via holding Mortgage Backed Securities. - Broad money growth accelerated rapidly, contributing to an acceleration in private credit. ### External sector and markets (selected findings) - External accounts have been broadly balanced but with a large current account deficit driven primarily by strong mining related FDI flows, which are expected to decline over the medium term. - Gross reserves continue to increase, helped at the margin by gold purchases, FX swaps, and purchases from firms. - Real effective exchange rate has appreciated despite sizeable nominal depreciation. - Since the program, Mongolian sovereign spreads have narrowed faster than EM peers, though more recently Mongolia’s spreads have mostly traded sideways. - External borrowing costs remain about half of the level seen at the start of the program. - Prices of Mongolia’s major export commodities have risen over the last 3 years. - After a period of depreciation against the dollar and renminbi in 2018, the currency has again stabilized. ### Gender and labor (selected findings) - Female labor force participation in Mongolia is in line with other countries in the region but has deteriorated over the past decade, particularly relative to male counterparts. - Female unemployment rate is broadly in line with male unemployment. - Female enrollment ratio at the primary level has improved. - Mongolia has relatively low gender inequality relative to regional peers and the relative gender earnings gap has narrowed in recent years. ### Key statistics and projections (select items preserved exactly as in source) - Nominal GDP (in billions of togrogs): 2016 23943; 2017 27876; 2018 32094; 2019 37129; 2020 42092; 2021 47531; 2022 53652; 2023 60002; 2024 66798. - Real GDP growth (percent change): 2016 1.2; 2017 5.3; 2018 6.9; 2019 6.5; 2020 5.4; 2021 5.1; 2022 5.6; 2023 6.0; 2024 5.0. - Consumer Prices (EoP; percent change): 2016 0.8; 2017 7.2; 2018 9.7; 2019 8.4; 2020 8.1; 2021 7.0; 2022 6.9; 2023 7.1; 2024 7.2. - Copper prices (US$ per ton): 2016 4868; 2017 6170; 2018 6530; 2019 6058; 2020 5991; 2021 6045; 2022 6090; 2023 6123; 2024 6123. - Gold prices (US$ per ounce): 2016 1248; 2017 1257; 2018 1269; 2019 1288; 2020 1309; 2021 1336; 2022 1367; 2023 1393; 2024 1393. - Oil price (in U.S. dollars per barrel): 2016 42.8; 2017 52.8; 2018 68.3; 2019 65.5; 2020 63.9; 2021 60.7; 2022 58.5; 2023 57.6; 2024 57.6. - General government debt (percent of GDP): 2016 87.6; 2017 84.6; 2018 73.3; 2019 73.0; 2020 71.0; 2021 66.2; 2022 61.7; 2023 58.9; 2024 57.2. - Domestic: 2016 20.2; 2017 13.6; 2018 5.3; 2019 4.2; 2020 3.0; 2021 2.2; 2022 1.5; 2023 2.8; 2024 4.9. - External: 2016 67.5; 2017 71.0; 2018 68.0; 2019 68.9; 2020 68.0; 2021 64.0; 2022 60.1; 2023 56.1; 2024 52.3. - Broad money growth (percent change): 2016 21.0; 2017 30.4; 2018 22.8; 2019 25.4; 2020 13.4; 2021 12.9; 2022 12.9; 2023 11.8; 2024 11.3. - Credit growth (percent change): 2016 6.7; 2017 11.1; 2018 23.4; 2019 18.0; 2020 17.0; 2021 15.0; 2022 15.0; 2023 16.0; 2024 17.0. - Current account balance (in percent of GDP): 2016 -6.3; 2017 -10.1; 2018 -17.0; 2019 -14.4; 2020 -12.4; 2021 -11.3; 2022 -9.5; 2023 -8.8; 2024 -8.8. - Gross official reserves (in USD millions): 2016 1297; 2017 3012; 2018 3461; 2019 3655; 2020 4033; 2021 4018; 2022 3638; 2023 3325; 2024 2802. - Reserve money (in billions of togrog): 2016 3067; 2017 3943; 2018 4908; 2019 6076; 2020 6889; 2021 7779; 2022 8780; 2023 9820; 2024 10932. - Broad money (in billions of togrog): 2016 12159; 2017 15860; 2018 19474; 2019 24427; 2020 27692; 2021 31270; 2022 35297; 2023 39475; 2024 43946. - Credit outstanding (Domestic credit+MBS) (In MNT bn): 2016 11486; 2017 16521; 2018 20382; 2019 24051; 2020 28140; 2021 32360; 2022 37215; 2023 43169; 2024 50508. - Credit to GDP ratio: 2016 62.1; 2017 59.3; 2018 63.5; 2019 64.8; 2020 66.9; 2021 68.1; 2022 69.4; 2023 71.9; 2024 75.6. - Balance of payments (selected): Current account balance (in millions of U.S. dollars): 2016 -700; 2017 -1155; 2018 -2206; 2019 -1963; 2020 -1818; 2021 -1792; 2022 -1610; 2023 -1594; 2024 -1691. - Trade balance (in millions of U.S. dollars): 2016 1338; 2017 1490; 2018 676; 2019 1254; 2020 1425; 2021 1525; 2022 1948; 2023 2220; 2024 2446. - Exports (in millions of U.S. dollars): 2016 4804; 2017 5834; 2018 6557; 2019 7216; 2020 7406; 2021 8068; 2022 8677; 2023 9537; 2024 10203. - Mineral export (in millions of U.S. dollars): 2016 3999; 2017 5162; 2018 6034; 2019 6495; 2020 6679; 2021 7311; 2022 7894; 2023 8717; 2024 9356. - Imports (in millions of U.S. dollars): 2016 -3466; 2017 -4345; 2018 -5881; 2019 -5962; 2020 -5981; 2021 -6543; 2022 -6729; 2023 -7317; 2024 -7758. - Gross financing requirements (in millions of U.S. dollars): 2016 2,067; 2017 3,628; 2018 3,535; 2019 4,239; 2020 4,023; 2021 3,599; 2022 4,257; 2023 3,847; 2024 2,960. *Source: IMF staff report excerpts and associated tables from the Mongolia chapter.* ### Annex I. Risk Assessment Matrix ### Annex I. Risk Assessment Matrix ### Global and Regional Risks - Large swings in energy prices - Relative Likelihood: Medium - Expected Impact If Realized: High - Rationale: "Given minerals accounts for over 90 percent of Mongolian exports, with almost all directed towards China, this would have a significant impact on growth, hurt fiscal revenues, asset quality of banks, intensify BOP pressures, and lead to an exchange rate depreciation." - Policies to Mitigate Risks: - "Build reserves to quickly reach 100 percent of ARA; pursue rapid reduction in public debt to create room for a countercyclical policy response; and strengthen capital buffers of banks immediately in line with AQR needs." - Sharp tightening of global financial conditions due to sustained rise in risk premium (in short term) - Relative Likelihood: Medium - Expected Impact If Realized: High - Rationale: "Since BOM’s GIR position is still low relative to ARA metrics, and NIR position is near zero, higher funding cots or challenges in rolling over external debt could lead to a significant adverse impact on BOP and growth. Moreover, with the recent rise in household indebtedness, higher interest rates are likely to directly impact households, increasing default on consumer loans and hurting bank capital." - Policies to Mitigate Risks: - "Boost reserves through FX intervention (instead of relying on deliverable or non-deliverable swaps with local banks); while smoothing external debt amortization profile based on a consolidated perspective of both BOM and the Goma." - Weaker than expected global growth, particularly in China (due to intensification of trade tensions and/or a housing market downturn) - Relative Likelihood: Medium - Expected Impact If Realized: Medium - Rationale: "Since China is Mongolia’s main trading partner, a slowdown in China is likely to impact Mongolian growth, fiscal revenues, and the exchange rate. Although, so far Mongolian coal exports do not appear to have been affected by the U.S. tariffs on Chinese steel." - Policies to Mitigate Risks: - "Continue to build external and fiscal buffers, in line with advice above." ### Domestic Risks - Heightening of political uncertainty, especially in the run up to the 2020 parliamentary elections (including populist spending measures or calls to revise the investor agreement of the OT mine) - Relative Likelihood: Medium - Expected Impact If Realized: High - Rationale: "This could result in premature easing in monetary and fiscal policies, eroding buffers that Mongolia critically needs; while stoppages o the OT mine could undermine key growth drivers." - Policies to Mitigate Risks: - "Boost citizen confidence in the policymaking framework by stepping up efforts to combat corruption; and upgrade the social spending strategy to address core social issues including poverty and poor health outcomes." - Concerns about health of one or more systemic banks, especially in light of the incomplete bank recapitalization post-AQR - Relative Likelihood: Medium - Expected Impact If Realized: High - Rationale: "This could lead to loss of confidence in the banking system, and potentially lead to fiscal costs associated with bank resolution." - Policies to Mitigate Risks: - "Ensure that bank recapitalization is complete immediately, undercapitalized banks are resolved, and supervision is improved to restore health of the banking system." ### RAM Methodology Note - The RAM shows events that could materially alter the baseline path. Relative likelihood subjective scale: "low" = probability below 10 percent, "medium" = prob. between 10 and 30 percent, "high" = prob. between 30 and 50 percent. - The RAM reflects staff views as of the time of discussions with the authorities. Non-mutually exclusive risks may interact and materialize jointly. --- ### Annex II. Response to Past Fund Policy Advice ### Overview - Since the crisis of 2016 the authorities have made significant progress in strengthening fiscal accounts and reducing public debt. Reserves have recovered substantially on the back of strong mineral exports and resumed capital inflows. - Progress on financial sector reforms has been lacking: "Banks have not met the capital shortfalls identified by the Asset Quality Review, and the BOM needs to strengthen the banking regulations and its supervisory practices." ### Fiscal Policy — Key Recommendations and Implementation - Tighten fiscal policy significantly to reduce the deficit and put debt on a sustainable path - Implementation: Good progress. - Evidence: "Fiscal balance improved by 12 percent of GDP in 2017 and reached an overall surplus of 2.6 percent in 2018. The adjustments came from both strong revenues and substantial spending cuts." - Bolster fiscal discipline through structural reforms - Implementation: Mixed progress. - Measures: "PAYGO provision was adopted... Concessions are audited... Fiscal council was established in 2018 but did not meet the criteria of best practice." - Stop quasi-fiscal activities of BOM and Development Bank of Mongolia - Implementation: Mixed progress. - Measures: "DBM is now supervised by the BOM... Net lending by DBM in 2017 and 2018 has been curtailed... BOM has stopped most price stability programs but is still has sizable to the mortgage program... BOM has yet to transfer all mortgage securities from its balance sheet to MOF." ### Social Protection - Enhance existing social safety nets by better targeting the most vulnerable - Implementation: Limited progress. - Evidence: "Fiscal policy does little to reduce income inequality. The authorities reversed the progressive income tax in January 2018 and expanded the coverage of the Child Money Program from the bottom 60 percent to 80 percent. Food stamps and poverty reduction programs were introduced in 2018 but at a small scale." ### Monetary Policy - Maintain tight policy stance until economy normalizes - Implementation: Limited progress. - Evidence: "BOM cut policy rate twice in 2018 to 10 percent. Loose policy fueled rapid credit growth and worsened BOP position. In December 2018, BOM hiked policy rate by 100 bps to counter overheating..." - Improve central bank governance - Implementation: Some progress. - Measure: "The amended central bank law was passed in 2017 and improved governance to some extent." - Maintain exchange rate flexibility and build reserves - Implementation: Some progress. - Evidence: "Gross reserves have improved by more than 2 billion USD since last AIV. However, net reserves still are very low and the exchange rate was not flexible enough as the central bank frequently intervened with reserve sales to support the currency in 2H2018." ### Financial Sector Policy - Safeguard stability and improve bank soundness; perform an independent AQR and recapitalize/restructure/resolve banks - Implementation: Limited progress. - Evidence: "The AQR was completed in January 2018 and identified capital shortfalls in six banks of about 3 percent of GDP. BOM communicated the shortfall to banks in May and gave them until end-2018 to raise the capital. So far, one non-systemic bank has been resolved but the other six banks have not raised sufficient capital or there are questions about the source of the capital raised by the banks." - Strengthen bank supervision and enhance banking regulation - Implementation: Some progress. - Needs: "More progress is needed on implementing Basel II/III standard, improving asset classification, and strengthening supervisory capacity." - Facilitate NPL resolution - Implementation: Limited progress. - Needs: "New regulation on NPL resolution needs to be accompanied by other legislative amendments... including reforms on creditor right and the bankruptcy law." --- ### Annex III. Selected Priority Recommendations for Better Governance ### Corruption and Bribery - Ensure effective enforcement of existing legal framework against corruption. - "Implement recommendations identified in 2019 OECD-ACN Monitoring Report particularly regarding income and asset declarations by PEPs with follow-up on potential violations." - Ensure all public-sector spending falls under the e-procurement system and strengthen safeguards for whistleblowers. - Strengthen asset disclosure frameworks and work with WB’s StAR project. - Strengthen EITI framework including through better transparency over mining contracts. ### Rule of Law - Strengthen key institutions: "Independent Authority Against Corruption (IAAC), the Judiciary and the General Prosecutor’s Office," guarantee independence and adequate resourcing. - Improve contract enforcement and strengthen judiciary capabilities relating to commercial issues and debt resolution. ### Fiscal Governance and Transparency - Improvements per TA on revenue mobilization (no more tax amnesties), tax expenditures, and public financial management. - SOEs should follow procurement controls and improve transparency and governance; PPPs better monitored and controlled. - "Governance and transparency at government funds should be urgently improved. This is especially important for the Future Heritage Fund." - Strengthen the Fiscal Council with more autonomy and resources. - Improve accounting and transparency frameworks and implement GFS. ### Financial Sector Oversight and Central Bank Governance - Regulators should strengthen corporate governance, ensure implementation of international best standards, full transparency on beneficial ownership, and arms-length relationships in dealing with shareholders, directors, and intra group entities. - Upgrade credit risk management and improve financial sector infrastructure including professional skills such as accounting and auditing, and valuations. - Strengthen BOM governance: "strengthening its institutional autonomy, clarifying its mandate, and greater protection of its management and staff." ### AML/CFT - Continued political will and decisive action to implement AML/CFT measures per IMF TA. - Strengthen risk-based supervisory activities, notably onsite examinations by the BOM, the FIU, and the FRC with focus on high-risk areas including TFS, beneficial ownership, PEPs, and high-risk sectors such as banks, real estate and other DNFBPs. - Increase resources for the FIU, BOM, FRC, and law enforcement agencies with adequate inter-agency coordination. --- ### Annex IV. Public Debt Sustainability Analysis (DSA) ### Baseline and Key Assumptions - Public debt: "around 73 percent of GDP at end-2018," expected to fall to "around 57 percent by 2024" under the baseline. - Baseline assumptions: - "Real GDP growth is expected to remain anchored around 5-6 percent, while inflation is expected to remain roughly at the target of at the 8 percent target." - "The external position is weaker than implied by fundamentals, and the nominal exchange rate is expected to depreciate over the forecast horizon." - "Financing assumes concessional budget support and project loans in line with current commitments, mainly over 2019 and 2020." - "And lastly, the primary balance is projected to remain in the range of -0.5 to 3 percent between 2019 and 2024." ### Drivers of Debt Improvement - "The public debt-to-GDP ratio is forecast to decline by about 16 percentage points between end-2018 and end-2024." - Factors: projected low interest rates and high economic growth; share of concessional debt rising from "40 percent of public debt" currently to "about 60 by the end of 2020." - Average effective nominal interest rate: currently "4.4 percent" and projected to fall to "about 3 percent by 2024." ### Forecast Track Record and Risks - Historical assessments: growth and inflation forecasts "somewhat reasonable" but primary balance forecasts "too optimistic" — actual primary deficits "much higher than projected." - Major sensitivity scenarios: - Growth shock: "If growth declined by one standard deviation in 2020 and 2021, the debt-to-GDP-ratio is forecast to reach just below 85 percent in 2021... gross financing needs in 2021 to 18 percent of GDP compared to about 11 percent of GDP in the baseline." - Exchange rate shock: "A real exchange rate depreciation of 25 percent in 2020, would increase debt to about 85 percent of GDP, compared to about 70 percent projected under the baseline." - Financial sector contingent liability shocks: assume (i) "one-time increase in expenditure equivalent to 15 percent of banking sector assets (higher than the standard shock size of 10 percent)," combined with the growth shock — "debt path... about a 15 ppt of GDP increase in debt levels (peaking at 86 percent)." - Primary balance shock: equivalent to "half of the 10-year historical standard deviation combined with an increase in interest rates of 25bps for every 1 percent of GDP worsening in the primary balance" — cumulative shock impact of "4.8 percent of GDP spread evenly over 2020 and 2021" and interest rates increase "by 60bps in each year." Under this, "public debt not breaching 75 percent of GDP over the horizon." ### Uncertainty and Vulnerabilities - Fan charts: "width of the symmetric fan chart, estimated at about 60 percent of GDP over the medium term." - Debt profile weaknesses: - "External financing needs... are above the upper-risk assessment benchmark." - "Public debt in foreign currency is also above the upper-risk assessment benchmark (93 percent vs. 60 percent)." - Medium-term bond maturities "starting in 2021-24 equal to roughly half of international reserves." - Mitigating factors: "Robust growth and access to concessional financing and commercial borrowing at favorable terms mitigate risks to debt sustainability to some extent." Authorities rolled-over external bonds maturing in 2017 and 2018 at lower interest rates; "gross reserves significantly" boosted; "the authorities face no external maturities on international bonds until 2021." *International Monetary Fund — Annexes I–IV as provided in the source content.* ### 8. However, given the history of boom bust cycles, the authorities need to remain ### 1mngea2019001 - 8. However, given the history of boom bust cycles, the authorities need to remain ### Fiscal and debt-sustainability vigilance - Crisis episodes, as recently as 2016-17, have repeatedly tipped debt and financing needs beyond safe limits. - Underlying vulnerabilities: exposure to commodity price volatility; large external debt position; broader contingent liabilities (including from private sector debt). - Data gaps to address: collateralized public debt, publicly-guaranteed borrowings, and implicit government guarantees. ### Public Sector Debt Sustainability Analysis — Baseline projections and key indicators (As of April 01, 2018) - Nominal gross public debt: 2017 = 49.2; 2018 = 81.4; 2019 = 73.3; 2020 = 72.1; 2021 = 70.4; 2022 = 66.0; 2023 = 61.4; 2024 = 59.3; 57.4 (final column label context). - Sovereign Spreads: EMBIG (bp) = 290. - Public gross financing needs (in percent of GDP): 2017 = 6.1; 2018 = 5.2; 2019 = 5.3; 2020 = 3.1; 2021 = 6.0; 2022 = 10.4; 2023 = 12.9; 2024 = 15.7; 11.6 (final column). - 5Y CDS (bp) = 258. - Real GDP growth (in percent): 2017 = 7.3; 2018 = 5.3; 2019 = 6.9; 2020 = 6.5; 2021 = 5.4; 2022 = 5.1; 2023 = 5.6; 2024 = 6.0; 5.0 (final). - Inflation (GDP deflator, in percent): 2017 = 9.7; 2018 = 10.5; 2019 = 7.7; 2020 = 8.6; 2021 = 7.6; 2022 = 7.4; 2023 = 6.9; 2024 = 5.5; 6.0 (final). - Nominal GDP growth (in percent): 2017 = 20.1; 2018 = 16.4; 2019 = 15.1; 2020 = 15.7; 2021 = 13.4; 2022 = 12.9; 2023 = 12.9; 2024 = 11.8; 11.3 (final). - Ratings: Moody's = B3 / B3 (Foreign / Local); S&Ps = B- / B-; Fitch = BB. - Effective interest rate (in percent): 2017 = 3.3; 2018 = 5.5; 2019 = 4.6; 2020 = 3.8; 2021 = 3.1; 2022 = 2.7; 2023 = 2.2; 2024 = 2.6; 2.8 (final). - Change in gross public sector debt (cumulative): 2017 = 5.7; 2018 = -6.2; 2019 = -8.1; 2020 = -1.2; 2021 = -1.6; 2022 = -4.4; 2023 = -4.6; 2024 = -2.1; -1.9; cumulative = -15.9. - Identified debt-creating flows (cumulative): 2.8; -10.3; -8.4; -10.2; -7.4; -5.9; -5.8; -4.6; -4.0; cumulative = -37.9. - Primary deficit (in percent of GDP): 4.0; -0.4; -5.9; -2.7; -0.9; 0.5; 0.5; 0.5; 0.5; cumulative = -1.6. - Primary (noninterest) revenue and grants (in percent of GDP): 29.4; 28.5; 31.4; 30.6; 29.9; 29.9; 29.6; 30.0; 30.1; cumulative = 180.1. - Primary (noninterest) expenditure (in percent of GDP): 33.4; 28.2; 25.5; 28.0; 29.0; 30.4; 30.1; 30.5; 30.6; cumulative = 178.5. - Automatic debt dynamics (cumulative): -1.1; -9.9; -2.6; -7.5; -6.5; -6.4; -6.3; -5.1; -4.5; cumulative = -36.3. - Interest rate/growth differential (cumulative): -4.2; -8.4; -8.0; -7.5; -6.5; -6.4; -6.3; -5.1; -4.5; cumulative = -36.3. - Real interest rate contribution (cumulative): -1.9; -4.4; -3.2; -3.4; -3.1; -3.2; -3.0; -1.8; -1.9; cumulative = -16.3. - Real GDP growth contribution (cumulative): -2.4; -4.0; -4.9; -4.1; -3.4; -3.2; -3.3; -3.3; -2.7; cumulative = -20.0. - Exchange rate depreciation contribution: 3.1; -1.5; 5.5... (ellipsis indicates continuation as in source). - Other identified debt-creating flows and Contingent liabilities: 0.0 across listed years. - Residual, including asset changes (cumulative): 2.9; 4.1; 0.3; 9.0; 5.8; 1.5; 1.2; 2.5; 2.1; cumulative = 22.0. ### Alternative scenarios and composition of public debt - Baseline underlying assumptions (selected): - Real GDP growth (2019–2024): 6.5, 5.4, 5.1, 5.6, 6.0, 5.0. - Inflation (2019–2024): 8.6, 7.6, 7.4, 6.9, 5.5, 6.0. - Primary Balance (2019–2024): 2.7, 0.9, -0.5, -0.5, -0.5, -0.5. - Effective interest rate (2019–2024): 3.8, 3.1, 2.7, 2.2, 2.6, 2.8. - Historical Scenario (selected): Real GDP growth path: 6.5, 7.0, 7.0, 7.0, 7.0, 7.0; Primary Balance: 2.7, -2.1, -2.1, -2.1, -2.1, -2.1. - Constant Primary Balance Scenario: Primary Balance held at 2.7 for 2019–2024; effective interest rate slightly different (3.8, 3.1, 2.7, 2.0, 2.3, 2.5). - Charts in source show composition by maturity (short-term vs medium and long-term) and by currency (local vs foreign currency) across 2017–2024. ### Stress tests and realism checks - Stress tests considered: Primary Balance Shock; Real GDP Growth Shock; Real Interest Rate Shock; Real Exchange Rate Shock; Combined Shock; Contingent Liability Shock. - Example scenario outcomes (selected): - Primary Balance Shock path (2019–2024): Real GDP growth = 6.5, 5.4, 5.1, 5.6, 6.0, 5.0; Inflation = 8.6, 6.2, 6.0, 6.9, 5.5, 6.0; Primary balance = 2.7, -1.4, -2.8, -0.5, -0.5, -0.5; Effective interest rate = 3.8, 3.1, 2.8, 2.4, 2.8, 3.0. - Real GDP Growth Shock path (2019–2024): Real GDP growth = 6.5, -0.4, -0.6, 5.6, 6.0, 5.0; Primary balance = 2.7, -1.2, -5.0, -0.5, -0.5, -0.5; Effective interest rate = 3.8, 3.1, 2.8, 2.6, 2.9, 3.2. - Real Interest Rate Shock: Effective interest rate spikes (examples show up to 8.0 in mid-projection in scenario table). - Real Exchange Rate Shock: Inflation exhibits jump (example shows Inflation = 8.6, 15.8, 7.4, 6.9, 5.5, 6.0). - Combined Shock and Contingent Liability Shock: Primary balance and interest rates show large adverse moves in scenario paths (e.g., Combined: Primary balance = 2.7, -1.7, -5.6, -0.5, -0.5, -0.5; Effective interest rate = 3.8, 4.0, 3.8, 4.6, 6.3, 8.3). - Stress test outputs displayed for: Gross Nominal Public Debt (in percent of GDP and in percent of Revenue) and Public Gross Financing Needs (in percent of GDP) across 2019–2024. ### Risk assessment and early-warning indicators - Benchmarks used: bond-spread thresholds (200 and 600 basis points); external financing requirement thresholds (5 and 15 percent of GDP); change in share of short-term debt (0.5 and 1 percent); public debt held by non-residents (15 and 45 percent); share of foreign-currency denominated debt (20 and 60 percent). - Indicators for Mongolia (2018, selected): - Gross financing needs benchmark of 15% flagged in stress tests context. - Bond spread (long-term over German bonds, average 01-Jan-18 through 01-Apr-18): referenced in chart notes. - Predictive densities and percentiles for gross nominal public debt shown across 2017–2024 (10th-25th, 25th-75th, 75th-90th percentiles). ### External Debt Sustainability (Annex V) — summary findings and projections - External debt level: "External debt of Mongolia is 220 percent of GDP—extremely high." - Reasons for high external debt: (i) large capital needs by the mining sector; (ii) loose fiscal and monetary policy over much of the past; (iii) reliance on external non-core funding by some commercial banks, and a central bank swap. - External debt ratio fell by 20 percent of GDP in 2018. - Dynamics: - External debt rose six-fold over the past decade, driven by high investment rates and large current account deficits (on average close to 20 percent of GDP) financed mostly by debt. - It fell in 2018 due to government deleveraging and robust economic growth. Total external debt increased by 4 percent in dollar terms but dropped as a ratio of GDP. Expected to stabilize around $33 billion by end-2021 (from $29 billion in 2018), while falling steadily as a percentage of GDP. - Currency and maturity profile: - External debt overwhelmingly in foreign currency; domestic-currency-denominated external debt is less than one percent of the total. - Short-term debt by original maturity is ten percent of total. - Sectoral breakdown (amounts and shares): - $9.2 billion of FDI intercompany loans (almost entirely mining sector) = one-third of the total. - $8 billion from other sectors, mainly corporate borrowing (28 percent of total). - $7.2 billion of government external debt (25 percent of total), roughly evenly split into concessional loans from the official sector and international bonds. - $2.3 billion owed by banks. - $2 billion by the Central Bank, of which $1.7 billion is a liability from the swap with the PBOC. - Assessment of leverage: - Some external leverage is justifiable for mining-related investment; intercompany loans reduce rollover risks. - Risks: currency mismatch for non-FDI debt; overall external borrowing at 220 percent of GDP has financed excessive domestic demand and leaves Mongolia at risk of correction. ### External DSA bound tests and scenarios (selected numeric results) - Baseline external debt in percent of GDP: Baseline = 176 (label context); historical and shock scenarios show higher peaks (examples: Interest rate shock = 183; CA shock = 203; Combined shock = 206; Real depreciation 30% shock = 268). - Projections table (selected rows, 2014–2024 context): - Baseline external debt (percent of GDP): 178.7; 193.3; 220.7; 240.6; 220.7; 206.9; 216.7; 206.7; 196.6; 184.4; 176.3. - Change in external debt (selected): 21.1; 14.6; 27.3; 20.0; -19.9; -13.8; 9.8; -10.0; -10.1; (other entries include -12.2; -8.1). - Identified external debt-creating flows (selected): 13.6; 10.3; 53.9; -7.7; -22.8; -5.3; -2.4; -5.4; -4.5; -10.1; -3.9. - Current account deficit, excluding interest payments (selected): 5.0; -3.7; -3.0; -1.1; 6.7; 4.6; 4.3; 4.3; 2.1; 3.2; 1.2 (as displayed). - Automatic debt dynamics (selected): 10.9; 15.0; 19.5; 6.1; -19.0; -3.9; -1.9; -2.4; -3.6; -3.6; -1.5. - Contribution from nominal interest rate (selected): 6.3; 7.7; 9.3; 11.2; 10.3; 9.8; 8.5; 7.9; 7.2; 7.5; 7.2. - Contribution from real GDP growth (selected): -12.8; -4.4; -2.4; -11.5; -14.6; -13.7; -10.3; -10.3; -10.7; -11.1; -8.7. - Residual, incl. change in gross foreign assets (selected): 7.5; 4.3; -2; 6.6; 27.6; 2.9; -8.5; 12.2; -4.6; -5.6; -2.1; -4.2. - External debt-to-exports ratio (in percent): 344.1; 428.1; 439.3; 404.3; 374.5; 348.8; 381.9; 361.7; 344.9; 314.9; 298.9. - Gross external financing need (in billions of US dollars): 3.2; 2.7; 3.8; 5.0; 6.8; 3.9; 4.4; 3.8; 5.0; 3.9; 3.5. - Gross external financing need (in percent of GDP): 25.9; 22.9; 34.0; 43.7; 52.4; 28.5; 29.9; 24.2; 29.2; 21.2; 18.2. - Scenario with key variables at their historical averages (selected): external debt path shows decline from 206.9 to 162.9 over projection horizon (specific year-by-year: 206.9; 211.6; 200.4; 187.4; 175.5; 162.9; change -19.2). ### Policy-relevant implications (drawn from findings in the source) - Maintain vigilance to debt sustainability risks given history of boom-bust cycles and recent crisis episodes (2016-17). - Continue to maintain adequate fiscal and external buffers. - Improve data and monitoring on collateralized public debt, publicly-guaranteed borrowings, and implicit government guarantees to fully grasp the risk profile. - Reduce reliance on short-term and non-core external funding where possible; manage currency-mismatch risks for non-FDI external debt. - Monitor and manage gross financing needs and external financing requirements given large external debt and spikes in amortizations. *Source: IMF staff (excerpts from the provided content unit).* ### Annex VI. External Sector Assessment ### Annex VI. External Sector Assessment ### Summary assessment - Mongolia’s external position in 2018 was substantially weaker than implied by fundamentals and desirable policy settings. - The current account (CA) deficit deteriorated, external liabilities remain excessively high, and international reserves are inadequate. - Exchange rate policy should shift away from FX interventions that unrealistically stabilize the exchange rate—these interventions incentivize unhedged FX borrowing, keep the real exchange rate overvalued, and delay adjustment—and towards boosting (gross and net) international reserves, fast. - Tight and counter-cyclical fiscal, monetary and macro-prudential stances are advisable to build buffers in good times; development of transport infrastructure to allow expansion of mineral export capacity is also recommended. ### International investment position - Gross foreign assets: 48 percent of GDP; 57 percent of these are official reserves. - Gross liabilities: 309 percent of GDP. - Net international investment position (NIIP): deteriorated in absolute terms from -$32 billion in 2017 to -$33 billion in 2018; improved as a percentage of GDP from -280 in 2017 to near -260 percent in 2018. - Improvement drivers: reduction in Other Investment liabilities from 129 to 115 percent of GDP; foreign loans down from 106 to 95 percent of GDP; and growth. - Mongolia’s ratio of net foreign liabilities to GDP is among the largest (a significant crisis predictor). ### Composition of liabilities and implications - Half of all liabilities are direct investment claims, split evenly between equity and inter-company loans; mainly investments in the mining sector. - The other half of liabilities consist almost entirely of debt. - Foreign loans (bulk of Other Investment) rose sharply in 2016 due to the conversion of $4.1 billion in FDI intercompany loans; some banks rely heavily on non-core liabilities. - Portfolio liabilities: 12 percent of total (38 percent of GDP), almost exclusively debt securities mainly issued by the government which has reduced external borrowing. - Debt and debt-like liabilities: 73 percent of total; equity claims explain the rest. - Policy implications: raising the NIIP requires a mix of strong export-led growth and tight demand management; macroprudential measures and exchange rate flexibility to discourage FX indebtedness; development of hedging instruments to manage existing FX exposures. ### Current account, trade, and services/income balances - Goods trade: balance contracted by 60 percent in 2018 after six years of uninterrupted annual gains (from -25.6 percent of GDP in 2011 to a surplus of 13.1 percent in 2017). - In 2018: exports-to-GDP nearly flat; goods imports rose by 7 percent of GDP. - Drivers: large FDI-related imports (capital goods) and a surge in partly credit-fueled imports of consumer durables (likely in anticipation of tighter prudential requirements effective from January 2019). - Net income: nearly 5 percent of GDP fall in net income outflows was offset by an increase of about the same size in the services deficit. - Current account balance (CAB): fell to -16.9 percent of GDP (from -10.1 in 2017). - Since 2014, combined services and income balances far exceed the contribution of the goods balance to the current account. - Freight costs, closely tied to mineral exports, explain about one-third of the services deficit. - Large net foreign liability position causes systematically large interest and dividend net outflows. ### Assessment and model results - Due to large external stock imbalances, assessment uses the EBA-Lite External Sustainability (ES) approach which calculates the external adjustment needed to stabilize the NIIP. - ES model implies: - Current account gap: -4 percent of GDP. - Real effective exchange rate (REER) overvaluation: 9 percent. - IMF’s EBA-Lite CA model suggests: - CA gap: -10.8 percent (only one percent of which is due to policy gaps). - Implied REER over-valuation: 24 percent. - EBA-Lite REER model points to REER undervalued by 16 percent (largely attributable to unexplained residuals), influenced by the sharp drop in the REER in 2016; this is at odds with recent developments of Mongolia’s overall external position. - Staff anchors assessment on the ES approach due to exposure to a large negative NIIP; given the magnitude of net foreign liabilities, the adjustment implied by the ES model should be viewed as a minimum. - Staff assessment: external position is substantially weaker than implied by fundamentals and desirable policy settings, with a CA gap between -6 and -4 percent. - Additional explicit figures from assessment chart: - Actual CA: -16.9 - Cyclically Adjusted CA: -17.5 - EBA-Lite CA norm, multilat. Consistent: -6.7 - EBA-Lite CA gap: -10.8 - EBA-Lite ES gap: -4 - Staff CA gap: [-6,-4] ### Financing and reserves - FDI financing: - Net direct investment inflows: 14.8 percent of GDP in 2018, up from 13 percent in 2017. - FDI is now the dominant source of CA financing; bulk of FDI inflows represent claims on mining operations (esp. copper and coal). - Reserves: - Gross international reserves increased by approximately half-a-billion USD over 2018 to $3.5 billion. - Corresponds to 27 percent of GDP and 5 months of prospective imports of goods and services. - Gross reserves remain below the lower bound of the recommended range of 100-150 percent of the IMF’s reserve adequacy metric. - In 2017, gross reserves were $3.0 billion at year-end, or 80 percent of ARA. - Increase in reserves relied on donor inflows, gold purchases, and over-the-counter purchases of FX from export firms. - Bank of Mongolia sold (net) USD 855m through spot FX auctions with banks, which limited potential reserve increases. - Mongolia’s international reserves are heavily funded by FX liabilities. ### Policy recommendations and priorities - Shift exchange rate policy away from interventions that unrealistically stabilize the exchange rate; allow exchange rate flexibility to discourage unhedged FX borrowing and to support adjustment. - Boost gross and net international reserves rapidly. - Maintain tight and counter-cyclical fiscal, monetary, and macro-prudential policies to build buffers in good times. - Implement macroprudential measures and develop hedging instruments to manage FX exposures. - Promote strong export-led growth and investment in transport infrastructure to expand mineral export capacity and improve external sustainability. *Source: Annex VI. External Sector Assessment (Mongolia).* ### 7. Predetermined net drains on reserves weigh heavily (on- and off-balance-sheet). As of ### 7. Predetermined net drains on reserves weigh heavily (on- and off-balance-sheet). As of ### Key facts and figures - As of May-2019, the monetary authority and central government faced short-term contractual obligations in FX, to residents and non-residents, equal to around $3 billion (more than four-fifths of gross reserve assets). - Net reserves have been partly financed through roughly $1.2 billion in non-deliverable FX swaps which are settled in local currency. - Although these swaps do not trigger explicit FX obligations for BOM, the ultimate source of the foreign currency is external borrowing by BOM’s swap counterparties; settlement by the latter with their foreign lenders may cause eventual further drains on reserves. - Data Template on International Reserves and Foreign Currency Liquidity (USD Billions, End‑May 2019): - Gross Foreign Assets 3706 - Pre‐Determined Short‐Term Drains on Foreign Currency ‐3076 - Loans, Securities and Deposits ‐2441 - Forwards and Futures ‐635 - Memo: Financial Instruments Denominated in FX but Settled in Local Currency ‐1206 - Long Term FX Liabilities ‐163 ### Implications and analysis - Mongolia’s low reserves—especially once adjusted for FX liabilities—combined with balance of payments pressures, imply vulnerability to reserve drains from both on‑ and off‑balance-sheet items. - Non-deliverable FX swaps settled in local currency create contingent pathways for foreign exchange drains because counterparties’ external borrowing must eventually be serviced in foreign currency. - Given the scale of predetermined drains relative to gross reserve assets, conventional reserve cushions are materially overstated if off‑balance-sheet and FX‑settled instruments are not accounted for. ### Policy recommendations - FX intervention should be rigorously limited to: - Opportunistic purchases to build international reserves. - Preventing exceedingly disorderly market conditions. - Monitor and report comprehensively on off‑balance‑sheet FX exposures and non‑deliverable swap positions to reflect true reserve adequacy. - Prioritize measures to reduce short‑term FX contractual obligations where feasible and strengthen liquidity management to limit reliance on non‑deliverable swaps. *Source: IMF Staff Calculations; Bank of Mongolia (Data Template on International Reserves and Foreign Currency Liquidity, USD Billions, End‑May 2019).* ### 1. The latest available data confirm that recent macroeconomic developments are ### 1mngea2019001 - 1. The latest available data confirm that recent macroeconomic developments are ### Recent macroeconomic developments - Real GDP growth: 8.6 percent in 2019Q1; 6.5 percent in 2019Q2 reflecting a slowdown in external demand. - Annual consumer price index inflation: 7.7 percent y-o-y in July (around the Bank of Mongolia’s (BOM’s) target of 8 percent). - Year to date primary balance: reached 4.7 percent of GDP in July (in line with the performance during the same period in 2018), largely due to strong revenues. - Credit growth: 17.1 percent in July, down from 26.5 percent at end-2018. - Foreign exchange reserves: fell in July ($167 million in net terms) before stabilizing in August; Bank of Mongolia cites seasonal increase in foreign exchange demand as primary reason. ### Economic outlook - Recovery drivers: Fund’s EFF arrangement and a buoyant mining sector supported strong performance since 2017. - Medium-term growth projection: economy is projected to grow at an average annual rate of 5 percent over the medium term. - Reserves and inflation: Gross international reserves nearly tripled during the last two years and inflation remained stable within the central bank’s target range of 8 percent. - Policy challenge: In the medium-term, inflationary pressures persist; balancing inflation control with optimal growth policies is a key challenge. ### Fiscal policy - Primary balance evolution: from a deficit of 11.2 percent of GDP in 2016 to a surplus of 5.9 percent of GDP in 2018. - Public debt: reduced significantly by 13 percentage points of GDP over the last two years. - Composition of adjustment: two-thirds of the overall adjustment came from reduced expenditure. - Medium-term budget framework: prepared for 2020-23, prioritizes reduction of public debt. - 2020 budget commitment: authorities committed to passing the budget for 2020 with a primary budget surplus of 1 percent of GDP, within the agreed parameters from the Fund program. - Fiscal rules: current fiscal rules were prepared during the economic crisis of 2009 with Fund assistance; authorities agree the current fiscal rules may need improvement, but any thorough assessment and change must carefully manage public expectations. ### Financial markets and monetary policy - Inflation first half: 7.4 percent for the first half of this year, close to the central bank’s target. - Exchange rate and policy rate: exchange rate remained stable; monetary policy rate unchanged since December 2018. - Macroprudential measure: debt service to income ratio of 60 percent introduced, providing positive results by reducing pace of credit growth and protecting households from indebtedness. - Monetary stance: central bank will continue with a cautious monetary policy stance and will take every opportunity to build foreign reserves. - Data and research gaps: lack of quality time-series data and robust formal studies of the monetary transmission mechanism and the role of exchange rate flexibility creates challenges for effective policy implementation; authorities keen to work with the Fund to conduct more studies. - AML/CFT work: authorities are working to address AML/CFT deficiencies identified by the Asia Pacific Group; risks include possibility of grey listing and withdrawal of correspondent banking relationships; remaining work includes increasing supervision of non-bank financial institutions and high-risk entities and improving criminal investigation into possible cases of money laundering. ### Program performance - 6th review of the EFF program: delayed due to lack of progress on completion of two financial sector actions. - Quantitative targets: met continuously and in some cases with big margins. - Structural reforms: numerous fiscal, monetary and financial markets reforms undertaken since start of program, providing a strong foundation. - Remaining major structural reform: strengthening the banking sector following the post asset quality review (AQR). - AQR outcomes: concluded in 2018; a number of banks were required to increase their capital and these banks raised their required capital by December of 2018. - Concerns and forensic audit: some capital-raising transactions raised concerns about consistency with local laws and international best practice; a specialist firm completed a forensic audit between June to August of this year which revealed a number of irregularities in the transactions aimed at recapitalizing banks following the AQR. Authorities are analyzing the findings and, in consultation with staff, considering next steps. - Authorities’ commitment: committed to taking all necessary actions to implement remaining post-AQR items in the banking sector and complete the 6th review of the program. ### Selected issues papers - Authorities’ reception: thank staff for selected issues papers on principal governance challenges and achieving green and inclusive growth; broadly agree with main findings and recommendations. - Key policy themes from papers: improving governance, reducing poverty, achieving green and inclusive growth. - Specific recommendations noted: using tax policy to resolve overgrazing and climate issues, tackling corruption, improving fiscal and central bank governance; analysis to be useful for future reform packages. ### Conclusion - Recent performance: Mongolia performed strongly, averted financial crisis and recovered over the last two years thanks to the EFF program and a positive external environment. - Remaining vulnerabilities: current buffers are not adequate; country remains vulnerable to external shocks. - Policy priorities: continue with structural reforms and build fiscal buffers and reserves. - Importance of support: Fund’s continued engagement through the EFF program and support from development partners are vital in achieving macroeconomic stability. *Statement by Nigel Ray, Executive Director for Mongolia, Chris White, Alternate Executive Director, Laura Johnson, Senior Advisor to Executive Director, Gantsogt Khurelbaatar, Advisor to Executive Director — September 11, 2019* --- _Source: https://www.imf.org/-/media/files/publications/cr/2019/1mngea2019001.pdf_